8.15 SEP Basics

A simplified employee pension plan (SEP) set up by an employer allows the employer to contribute to an employee’s IRA account more money than is allowed under regular IRA rules. For 2012, your employer generally could contribute and deduct up to 25% of your compensation or $50,000, whichever is less. Your employer’s SEP contributions are excluded from your pay and are not included on Form W-2 unless they exceed the limit. If contributions exceed the limit, the excess is included in your gross income and a 6% penalty tax may be imposed unless the excess (plus allocable income) is withdrawn by the due date of the return, plus extensions (8.7). If you are under age 59½, the 10% early distribution penalty may apply to the withdrawal of income earned on the excess contributions (8.12).

Caution

Employees over Age 70½

An employee over age 70½ may still participate in an employer SEP plan. Minimum distributions from the plan must begin as discussed in 7.13.

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Self-employed plans.

Self-employed individuals may set up a SEP as an alternative to a Keogh plan; see Chapter 41.

Eligibility.

A SEP must cover all employees who are at least age 21, earn over $550 (this amount may be adjusted for years after 2012 for inflation), and who have worked for the employer at any time during at least three of the past five years. Union employees covered by union agreements may generally be excluded.

SEP salary-reduction arrangements.

If a qualifying small employer set up a salary-reduction SEP before 1997, employees may contribute a portion of their pay to the plan instead of receiving it in cash (8.16).

SEP distributions.

Distributions from a SEP, including salary-reduction SEPs established before 1997, are subject to the regular distribution rules for traditional IRAs (8.8).